Whether you’ve decided to open your own business or your boss has offered you the opportunity to work from home as an independent contractor, there are many tax advantages of which you may not be aware – valid business expenses that you can use to reduce your taxable income.
This is by no means an exhaustive list and is aimed at those individuals who are new to working from home as a self-employed contractor. It also doesn’t touch on the IRS home office exemptions – for those explanations, we suggest you contact an accounting or small business professional for answers.
Remember, in addition to tracking expenses, as a self employed person you need to report your self employment income and pay the taxes that are due on that income. Even if your income is modest and you use your kitchen table as your office, there are still legitimate business expenses you can use to offset your income.
You don’t have to undertake a convoluted bookkeeping system to track your income and expenses but you do need to keep track of them. Keep your receipts filed by category and whether you prefer a paper bookkeeping system or if you want to use a computer program, either way is fine as long as you are keeping track of them.
A “business expense” is something for which you have paid money out of your pocket in order to maintain your business. A phone line is an example, as long as it is used exclusively for business. If you have a home phone you may need to install a second/business line in order to properly track the deduction. With the business line, you can deduct 100% of the costs of that phone line including hook up and installation.
Anything that you use to legitimately and specifically run your business – office supplies, equipment – can be considered a business expense. If you have a room in the house used exclusively for your work, you can write off the costs of having purchased furniture and equipment for that room. If your business requires the use of high-tech computer equipment or copiers these, too can be deemed business expenses but because of the depreciation aspects of purchases of this kind, you will likely need to discuss this with your accountant.
The IRS allows business expense deductions of up to $2,500 without requiring you to itemize your expenses into specific categories. You can simply report a lump sum figure of $1,345.67 for business expenses rather than breaking it down to $56.67 for paper, $89.43 for paper clips, etc. Once your expenses exceed the IRS threshold you will need to file a “long form” and break the expenses down by categories.
Here are a few steps to keep in mind when tracking business expenses:
- Set up a filing and tracking system system from the first business purchase. Track the dollar amount of the purchase, purchase date and what it was for. Many small business owners use pocket folders marking one for each month of the year. They can log the expense and drop the receipts into the envelope. Others write on the receipt itself what it was for so they do not have to track additional sheets of paper while some prefer to scan receipts avoiding becoming inundated with tiny pieces of paper. Remember to keep the receipts even if you are tracking expenses on a spreadsheet.
- Separate business and pleasure by having separate business and personal bank accounts. Use the business account for business expenses and the personal account for personal expenses. The IRS frowns on the commingling of funds. Whether you pay by cash, check or debit card remember to attach receipts to the reconciled monthly bank statement.
- Organize paperwork at least quarterly. Calculate how much you have spent. If you find that by the second quarter, you’ve spent close to $1,125 (half of the IRS’s allotted non-itemized deduction limit) it is likely you will meet or exceed it by year end so make certain you are tracking your expenses by category.
- Calculate annual expenses at the end of the year. Match paperwork to the calculated expenses so you are ready for your appointment with the accountant at tax time.
Tracking business expenses is not a huge chore as long as you keep up with it at least weekly – we recommend that each time you make a purchase you take the time to write what it was for and put it into your filing system. The more quickly you take care of receipts the easier it will be to manage your business expenses.
Your accounting professional will thank you for your diligence and tracking your expenses will assure that you do not miss any deductions that you are due.